DERIVATIVE ACTIVITIES

3 Months Ended

Mar. 31, 2013

DERIVATIVE ACTIVITIES

(11) DERIVATIVE ACTIVITIES

We use commodity-based derivative contracts to manage exposure to commodity price fluctuations. We do not enter into these arrangements for speculative or trading purposes. We do not utilize complex derivatives as we typically utilize commodity swaps or collars to (1)reduce the effect of price volatility of the commodities we produce and sell and (2)support our annual capital budget and expenditure plans. In 2011, we sold NGLs derivative swap contracts (“sold swaps”) for the natural gasoline (or C5) component of natural gas liquids and in 2012, we entered into purchased derivative swaps (“re-purchased swaps”) for C5 volumes. These re-purchased swaps were, in some cases, with the same counterparties as our sold swaps. We entered into these re-purchased swaps to lock in certain natural gasoline derivative gains. In second quarter 2012, we also entered into NGL derivative swap contracts for the propane (or C3) component of NGLs. At March31, 2013, we had open swap contracts covering77.7Bcf of natural gas at prices averaging $3.71 per mcf,4.5 million barrels of oil at prices averaging $94.62 per barrel, 1.8 million net barrels of NGLs (the C5 component of NGLs) at prices averaging $92.72 per barrel and 2.3 million barrels of NGLs (the C3 component of NGLs) at prices averaging $37.00per barrel. At March31, 2013, we also had collars covering 258.6Bcf of natural gas at weighted average floor and cap prices of $4.08 to $4.64per mcf and 1.6 million barrels of oil at weighted average floor and cap prices of $88.23 to $100.00 per barrel. The fair value of these contracts, represented by the estimated amount that would be realized upon termination, based on a comparison of the contract price and a reference price, generally the New York Mercantile Exchange (“NYMEX”), approximated a net unrealized pre-tax loss of $593,000 at March31, 2013. These contracts expire monthly through December 2015. The following table sets forth our derivative volumes by year as of March31, 2013.

Period	Contract Type	Volume Hedged	Weighted Average Hedge Price
Natural Gas
2013	Collars	280,000 Mmbtu/day	$4.59–$ 5.05
2014	Collars	402,500 Mmbtu/day	$3.81–$ 4.47
2015	Collars	95,000 Mmbtu/day	$4.06–$ 4.48
2013	Swaps	256,127 Mmbtu/day	$3.67
2014	Swaps	20,000 Mmbtu/day	$4.08
Crude Oil
2013	Collars	3,000 bbls/day	$90.60–$ 100.00
2014	Collars	2,000 bbls/day	$85.55–$ 100.00
2013	Swaps	5,829 bbls/day	$96.73
2014	Swaps	6,000 bbls/day	$94.54
2015	Swaps	2,000 bbls day	$90.20
NGLs (Natural Gasoline)
2013	Sold Swaps	8,000 bbls/day	$89.64
2013	Re-purchased Swaps	1,500 bbls/day	$76.30
NGLs (Propane)
2013	Swaps	7,000 bbls/day	$ 36.38
2014	Swaps	1,000 bbls/day	$40.32

Every derivative instrument is required to be recorded on the balance sheet as either an asset or a liability measured at its fair value. Fair value is determined based on the difference between the fixed contract price and the underlying market price at the determination date. Changes in the fair value of our derivatives that qualify for hedge accounting are recorded as a component of AOCI in the stockholders’ equity section of the accompanying consolidated balance sheets, which is later transferred to natural gas, NGLs and oil sales when the underlying physical transaction occurs and the hedging contract is settled. As of March31, 2013, an unrealized pre-tax derivative gain of $91.9 million was recorded in AOCI. See additional discussion below regarding the discontinuance of hedge accounting. If the derivative does not qualify as a hedge or is not designated as a hedge, changes in fair value of these non-hedge derivatives are recognized in earnings in derivative fair value income or loss.

For those derivative instruments that qualify or are designated for hedge accounting, settled transaction gains and losses are determined monthly, and are included as increases or decreases to natural gas, NGLs and oil sales in the period the hedged production is sold. Through February28, 2013, we have elected to designate our commodity derivative instruments that qualify for hedge accounting as cash flow hedges. Natural gas, NGLs and oil sales include $36.5 million of gains in first quarter 2013 compared to gains of $57.6 million in the same period of 2012 related to settled hedging transactions. Any ineffectiveness associated with these hedge derivatives is reflected in derivative fair value loss in the accompanying statements of operations. The ineffective portion is generally calculated as the difference between the changes in fair value of the derivative and the estimated change in future cash flows from the item hedged. Derivative fair value loss for the three months ended March31, 2013 includes ineffective losses (unrealized and realized) of $2.9 million compared to a gain of $237,000 in the three months ended March31, 2012. During first quarter 2013, we recognized a pre-tax gain of $2.3 million as a result of the discontinuance of hedge accounting where we determined the transaction was probable not to occur due to the sale of our properties in New Mexico.

Discontinuance of Hedge Accounting

Effective March1, 2013, we elected to de-designate all commodity contracts that were previously designated as cash flow hedges and elected to discontinue hedge accounting prospectively. AOCI included $103.6 million ($63.2 million after tax) of unrealized net gains, representing the marked-to-market value of the effective portion ofour cash flow hedges as of February28, 2013. As a result of discontinuing hedge accounting, the marked-to-market values included in AOCI as of the de-designation date were frozen and will be reclassified into earnings in future periods as the underlying hedged transactions occur. As of March 31, 2013, we expect to reclassify into earnings $80.9 million of unrealized net gains in the remaining months of 2013 and $10.9 million of unrealized net gains in 2014 from AOCI.

With the election to de-designate hedging instruments, all of our derivative instruments continue to be recorded at fair value with unrealized gains and losses recognized immediately in earnings rather than in AOCI. These marked-to-market adjustments will produce a degree of earnings volatility that can be significant from period to period, but such adjustments will have no cash flow impact relative to changes in market prices. The impact to cash flow occurs upon settlement of the underlying contract.

Derivative fair value loss

The following table presents information about the components of derivative fair value loss for the three months ended March31, 2013 and 2012 (in thousands):

	Three Months Ended March31,
	2013	2012
Change in fair value of derivatives that do not qualify or are not designated for hedge accounting (a)	$  (96,802)	$(52,056)
Realized gain on settlement–natural gas (a)(b)	815	—
Realized loss on settlement–oil (a) (b)	(102)	(4,622)
Realized loss on settlement–NGLs (a) (b)	(895)	(4,392)
Hedge ineffectiveness–realized	564	1,185
–unrealized	(3,455)	(948)
Derivative fair value loss	$  (99,875)	$(60,833)

(a)Derivatives that do not qualify or are not designated for hedge accounting.

(b)These amounts represent the realized gains and losses on settled derivatives that do not qualify or are not designated for hedge accounting, which before settlement are included in the category in this same table referred to as change in fair value of derivatives that do not qualify or are not designated for hedge accounting.

Derivative assets and liabilities

The combined fair value of derivatives included in the accompanying consolidated balance sheets as of March31, 2013 and December31, 2012 is summarized below. As of March31, 2013, we are conducting derivative activities with fifteen financial institutions, of which all but two are secured lenders in our bank credit facility. We believe all of these institutions are acceptable credit risks. At times, such risks may be concentrated with certain counterparties. The credit worthiness of our counterparties is subject to periodic review. The assets and liabilities are netted where derivatives with both gain and loss positions are held by a single counterparty and we have master netting arrangements (in thousands).

	March31, 2013	December31, 2012
Derivative assets:
Natural gas–swaps	$(12,701)	$     7,504
–collars	33,552	122,255
–basis swaps	—	993
Crude oil–swaps	1,769	9,650
–collars	(59)	2,222
NGLs–C5 swaps	4,844	10,643
–C3 swaps	34	—
	$  27,439	$ 153,267
Derivative (liabilities):
Natural gas–swaps	$ (19,918)	$—
–collars	(6,206)	(3,463)
Crude oil – swaps	2,929	—
NGLs–C5 swaps	3,467	2,275
–C3 swaps	(8,204)	(6,746)
	$ (28,032)	$   (7,934)

The table below provides data about the fair value of our derivative contracts. Derivative assets and liabilities shown below are presented as gross assets and liabilities, without regard to master netting arrangements, which are considered in the presentation of derivative assets and liabilities in the accompanying consolidated balance sheets (in thousands).

	March31, 2013			December31, 2012
	Assets	(Liabilities)		Assets	(Liabilities)
	Carrying Value	Carrying Value	Net Carrying Value	Carrying Value	Carrying Value	Net Carrying Value
Derivatives that qualify for cash flow hedge accounting :
Swaps (a)	$15,431	$(6,640)	$8,791	$22,236	$(3,242)	$18,994
Collars (a)	91,591	(10,356)	81,235	129,878	(9,721)	120,157
	$107,022	$(16,996)	$90,026	$152,114	$(12,963)	$139,151
Derivatives that do not qualify for hedge accounting :
Sold swaps (a)	$6,702	$(48,132)	$(41,430)	$7,316	$(8,904)	$(1,588)
Re-purchased swaps (a)	4,759	—	4,759	5,920	—	5,920
Collars (a)	162	(54,110)	(53,948)	857	—	857
Basis swaps (a)	—	—	—	993	—	993
	$11,623	$(102,242)	$(90,619)	$15,086	$(8,904)	$6,182

(a)Included in unrealized derivative gain or loss in the accompanying consolidated balance sheets.

The effects of our cash flow hedges (or those derivatives that qualify for hedge accounting) on accumulated other comprehensive income in the accompanying consolidated balance sheets is summarized below (in thousands):

	Three Months Ended March31,
	Change in Hedge DerivativeFairValue		RealizedGain(Loss) ReclassifiedfromOCI into Revenue (a)
	2013	2012		2013	2012
Swaps	$(2,154)	$36,172		$5,768	$19,313
Put options	—	(1,562)		—	—
Collars	(7,015)	96,471		30,732	38,316
Income taxes	3,576	(52,107)		(14,235)	(22,187)
	$(5,593)	$78,974		$22,265	$35,442

(a)For realized gains upon derivative contract settlement, the reduction in AOCI is offset by an increase in natural gas, NGLs and oil sales. For realized

losses upon derivative contract settlement, the increase in AOCI is offset by a decrease in natural gas, NGLs and oil sales.

The effects of our non-hedge derivatives (or those derivatives that do not qualify for hedge accounting) and the ineffective portion of our hedge derivatives on our consolidated statements of operations is summarized below (in thousands):

	Three Months Ended March31,
	Gain (Loss) Recognized in Income (Non-hedge Derivatives)		Gain (Loss) Recognized in Income (Ineffective Portion)		Derivative Fair Value Income (Loss)
	2013	2012	2013	2012	2013	2012
Swaps	$  (43,076)	$(52,985)	$(1,995)	$159	$(45,071)	$(52,826)
Re-purchased swaps	1,185	—	—	—	1,185	—
Collars	(55,003)	(2,502)	(896)	78	(55,899)	(2,424)
Call options	(90)	(5,583)	—	—	(90)	(5,583)
Total	$  (96,984)	$(61,070)	$(2,891)	$237	$(99,875)	$(60,833)

Offsetting of Derivative Assets and Derivative Liabilities

The tables below provide additional information related to our master netting arrangements with our derivative counterparties (in thousands):

	March31, 2013
	Gross Amounts of RecognizedAssets	Gross Amounts Offset in the Balance Sheet	Net Amounts of AssetsPresentedinthe Balance Sheet
Derivative assets:
Natural gas – swaps	$—	$(12,701)	$(12,701)
– collars	42,866	(9,314)	33,552
Crude oil   –swaps	2,360	(591)	1,769
– collars	444	(503)	(59)
NGLs        – C5 swaps	5,084	(240)	4,844
– C3 swaps	34	—	34
	$50,788	$(23,349)	$27,439
	Gross Amounts of Recognized(Liabilities)	Gross Amounts Offset in the Balance Sheet	Net Amounts of (Liabilities)Presentedinthe Balance Sheet
Derivative (liabilities):
Natural gas –swaps	$(19,918)	$—	$(19,918)
– collars	(16,475)	10,269	(6,206)
Crude oil – swaps	(690)	3,520	2,830
NGLs– C5 swaps	(877)	4,343	3,466
– C3 swaps	(8,204)	—	(8,204)
	$(46,164)	$18,132	$(28,032)

	December 31, 2012
	Gross Amounts of RecognizedAssets	Gross Amounts Offset in the Balance Sheet	Net Amounts of AssetsPresentedinthe Balance Sheet
Derivative assets:
Natural gas – swaps	$10,746	$(3,242)	$7,504
– collars	127,991	(5,736)	122,255
– basis swaps	993	—	993
Crude oil– swaps	9,650	—	9,650
– collars	2,222	—	2,222
NGLs   – C5 swaps	10,674	(31)	10,643
	$162,276	$(9,009)	$153,267
	Gross Amounts of Recognized(Liabilities)	Gross Amounts Offset in the Balance Sheet	Net Amounts of (Liabilities)Presentedinthe Balance Sheet
Derivative (liabilities):
Natural gas – collars	$(3,883)	$420	$(3,463)
NGLs       – C5 swaps	(106)	2,381	2,275
– C3 swaps	(6,746)	—	(6,746)
	$(10,735)	$2,801	$(7,934)